More On Legal & Compliancefrom The Advisor's Professional Library
- Risk-Based Oversight of Investment Advisors Even if the SEC had a larger budget and more resources, it is doubtful that the Commission would have the resources to regularly examine all RIAs. Therefore, the SEC is likely to continue relying on risk-based oversight to fulfill its mission of protecting investors.
- Client Communication and Miscommunication RIA policies and procedures must specify what type of communications should be retained. The safest course of action is for RIAs to retain all communicationsto clients, from clients, and about client accounts. To comply with fiduciary obligations, communications must be thorough and not mislead.
A day after Securities and Exchange Commission Chairwoman Mary Jo White unveiled a sweeping plan for reining in high-frequency trading and monitoring secretive trading practices, the agency announced Friday charges against New York-based brokerage firm Liquidnet Inc., which operates a dark pool alternative trading system, with improperly using subscribers’ confidential trading information in marketing its services.
As the agency explains, regulations require an alternative trading system (ATS) to establish and enforce safeguards and procedures to protect the confidential trading information of its subscribers. Among them is limiting access to subscribers’ data to employees who operate the ATS or have a direct compliance role.
An SEC investigation found that Liquidnet Inc. violated its regulatory obligations and its own promises to its ATS subscribers during a nearly three-year period when it improperly allowed a business unit outside the dark pool operation to access the confidential trading data.
The SEC says that employees in that unit “used the confidential information about Liquidnet’s dark pool subscribers during marketing presentations and various communications to other customers,” and that Liquidnet “also used subscribers’ confidential trading information in two ATS sales tools that it devised.”
SEC examiners spotted potential data access problems during an examination of Liquidnet and referred the matter to the Enforcement Division for further investigation, the agency says.
Liquidnet has agreed to settle the SEC’s charges and pay a $2 million penalty.
“Dark pool operators violate the law when they fail to protect the confidential trading information that their subscribers entrust to them, as Liquidnet did here when it used this confidential information to try to expand its business,” said Andrew Ceresney, director of the SEC Enforcement Division, in a statement. “We will continue to aggressively police broker-dealers who operate an ATS and fail to rigorously ensure the protection of confidential trading information.”
According to the SEC’s order instituting a settled administrative proceeding, Liquidnet’s core business is operating a block-trading dark pool for large institutional investors. Liquidnet has represented to its dark pool subscribers that it would keep their trading information confidential and allow them to trade with maximum anonymity and minimum information leakage.
In an effort to find additional sources of liquidity for its dark pool, the SEC says that Liquidnet launched an Equity Capital Markets (ECM) desk in 2009 to offer block execution services to corporate issuers and control persons of corporate issuers as well as private equity and venture capital firms looking to execute large equity capital markets transactions with minimal market impact.
The SEC’s order finds that Liquidnet provided ECM employees with access to the confidential trading information of dark pool subscribers from 2009 to late 2011, and they used it to market ECM’s services.
“Liquidnet’s subscribers trusted and believed that the firm was safeguarding their confidential information,” said Daniel Hawke, chief of the SEC Enforcement Division’s Market Abuse Unit, in the statement. “Instead, the firm breached its assurances of confidentiality and anonymity to them by allowing its ECM employees to improperly access subscriber trading data.”
According to the SEC’s order, Liquidnet also improperly used the confidential trading data of dark pool subscribers in two ATS sales tools. Liquidnet created “ships passing” alerts that alerted ATS sales employees to missed execution opportunities between subscriber algorithmic orders and subscriber indications, the SEC said. The firm also developed an application called Aqualytics, which identified subscribers to be contacted about Liquidnet’s recent dominance in certain stocks.
Check out High-Speed Trading Rules Coming From SEC, White Says on ThinkAdvisor.